THIS IS A RUSH TRANSCRIPT. THIS COPY MAY NOT BE IN ITS FINAL FORM AND MAY BE UPDATED.

FAREED ZAKARIA, CNN HOST: This is GPS, the Global Public Square. Welcome to all of you in the United States and around the world. I'm Fareed Zakaria.

We're done with campaigning so let's talk about governing. We'll start with two former secretaries of Treasury, Robert Rubin and Paul O'Neill, one a Democrat, one a Republican.

We'll talk about the fiscal cliff, how to avoid falling over it and once we've solved that problem, how to get the rest of the U.S. economic house in order.

Then, an exclusive interview with Bill Gates, the richest man in the United States and the world's biggest philanthropist. I'll get his thoughts on the president's reelection, on the new innovation economy and the revolution taking place in education.

And why the next foreign policy crisis for the world's number one power might well involve the world's number two power.

But, first, here's my take. Now that President Obama has won reelection, the debate in Washington has shifted from whether we should raise taxes to how and by how much.

This makes sense. With a deficit over $1 trillion, we will need a combination of increased tax revenues and spending cuts. The president and his allies, including Robert Rubin, have made the case that eliminating deductions simply will not get you enough money.

You will actually have to raise tax rates. That's probably true as well. But let's not give up entirely on the issue of deductions and all those hidden subsidies that the Simpson-Bowles report accurately called, "back-door spending," hidden in the tax code.

In order to sound like they're not spending money, Congress often tends to grant special exemptions to paying taxes. In his excellent book, "Red Ink", David Wessel points out that, "If you get $1,000 exemption, it is exactly the same as being paid $1,000 by the government, yet one is recorded as government spending, which is bad. The other is a tax cut, which is good."

The Simpson-Bowles Commission pointed out at that when you add up all these tax expenditures, they amount to over $1 trillion in foregone revenue. Consider that the federal government's total revenues are just $2.5 trillion, according to the CBO. Wessel points out that if we got rid of all corporate tax subsidies for example, we could lower the corporate tax rate from 35 percent to 28 percent, but the larger benefit would be to reduce corruption in Washington.

Congressman get cash for their campaigns and, in return for this, they often give away preferential treatment in the tax code to special interests, to companies, to lobbies.

That is the system of legalized corruption that is at the heart of the American politics. Tax expenditures are particularly valuable because, unlike actual spending, which has to be renewed in every year's budget, tax expenditures are in the code and the benefit is received every year.

It's the gift that keeps on giving. Now, since we can't do much about campaign finance reform thanks to the Supreme Court, why not get rid of what the cash often buys.

The largest tax breaks are not to corporations, they are to people for things like home mortgage deductions. But even these are vastly overdone and should be limited or phased out.

Britain got rid of the interest deductions on mortgages with no adverse effects. Canada never had one. And, yet, they have a similar rate of home ownership to the United States.

But forget about the economics for a moment. Just as a corruption cleansing mechanism, let's get rid of tax expenditures. If Congress wants to give you money, let them do it the old-fashioned way, write a check and do it again every year.

Let's get started.

So let's get right into it with our guests. Robert Rubin was Treasury Secretary for 4 years in the Clinton administration. Prior to that, he was co-chairman of Goldman Sachs.

Paul O'Neill was Treasury Secretary at the start of George W. Bush's first term. Earlier, he revived the fortunes of the industrial giant, Alcoa, as its CEO.

Welcome back, gentleman.

So, Bob, let's first just talk about the tactics. It does appear, over the last day or two, that President Obama has taken a stronger position on the fiscal cliff, on the expiration of the Bush tax cuts than he had earlier.

He's asking for more in revenues. He seems to be willing let the tax cuts expire. Is that the right strategy here?

ROBERT RUBIN, FORMER U.S. SECRETARY OF TREASURY: Well, it depends where you're trying to get. I think -- I happen to agree with President Obama where he is substantively in terms of what he needs to do to get an effective program with regard to our long-term fiscal trajectory, which I think is the overriding objective and assumed extremely important.

In terms of his tactics, it's very hard if you're not in the room, to know what one should do tactically, but it seems to me what he says a little different than what you just said.

What he said is I have a revenue objective. I think we can't get there without raising rates on the top brackets, which I think is absolutely right. You cannot get there with tax expenditures --

ZAKARIA: With just deductions.

RUBIN: Just with deductions. I know those numbers pretty well.

He's also saying that if you put in place a serious deficit reduction program that really meets our long-term -- or deals with our long-term fiscal trajectory, you can get ourselves in a much better place, in fact, an imperatively better place for the long-term.

And you can also significantly improve job creation and growth in the short-term, to increasing confidence. And you put all that together, what he then said is that I'm willing to sit with people and compromise to find common ground.

So I think it's sort of what you said, but not quite because what he said is we've all got to work together if we're going to meet that objective.

ZAKARIA: What do you think? Is he playing too hard ball with the Republicans or is there room here for compromise.

PAUL O'NEILL, FORMER U.S. SECRETARY OF TREASURY: You know, Fareed, I think he shouldn't focus at all on the Republicans. I think he ought to focus on the American people.

I think this is a restart opportunity for President Obama, an opportunity for him to educate the people and lead us in the direction we need to go.

So, you know, when I look at the fiscal cliff and sequestration, all these others things, I say to myself, you know, we need to start with this fundamental question.

Do we the American people agree that we should pay for the things we want and need and if the answer to that is yes, which I think it ought to be, then I think there's a related to question and that is when are we going to start doing it, right?

So, by the Simpson-Bowles plan, we would have the next balanced budget in 2035. You know I think that's a little far out for me if we're really serious about paying for the things we want and need.

And so a thing he could do would be to educate the people about our existing tax code so here are two facts: The tax gap, that is to say the amount of money we don't collect, which, in theory, is due and owing, according to a Brooking study, is $400 billion a year. That's a whole lot of money. ZAKARIRA: That's essentially tax cheating of various kinds.

O'NEILL: Of various kinds and, you know, it may not all be that extreme, but $400 billion we're not collecting now.

According to Art Laffer and his group, who've studied how much it costs our society to administer the current tax system it costs us $431 billion to administer this system.

You know, so on its face it says almost a monkey could figure out a better way to collect the revenue for things we need and want than fixing the existing tax system.

So I think it would be great if the President of the United States said was should reason together about an effective system that barely collects the revenue we need. And we probably ought to start out by saying we're going to start with a blank page.

Now, it doesn't mean we can implement it overnight, But now is an opportunity where he could lead us to throw away the broken thing that we've evolved into and set out a new course for the United States that will give us high prospects of growth and better standard of living for all the people in the United States.

ZAKARIA: Do you think that this issue of fundamental tax reform should be part of this current negotiation or do you think that we should, for now, try to fix things, move on and let that larger discussion take place later.

RUBIN: Let me totally agree with something Paul said and let me take just a slightly different view on another, which goes to the question you just asked.

I think Paul is exactly right. We have got to address our fiscal trajectory. It's an imperative we're going to be seeing the long- term.

And you can accomplish purposes, a short-term purpose and a long- term purpose because if we were would to address this long-term trajectory effectively, I think you really have substantial effect on job creation in the short-term because you would increase confidence.

And if you've constructed properly, at least what I would do as properly, you would defer the implementation for a little time so we can get a little bit more energy behind our recovery. And then you could have an upfront moderate stimulus to further improve growth.

On the point that Paul raises, in effect, I think, in substance, I think he's raised a very important point. We have a tremendous number of deductions, preferences and the like.

I think where Paul and I might have a slightly different view is they were designed for some purpose. And I think what we could do is redebate all these purposes.

I think, as a practical matter, within the timeframe we have, we can't have that full debate. I do think this. I think that if you go through all of that, I think as a matter of substance, as a matter of the effects that that would have, I think there are real limits to what you can do, Fareed, or what you should do I should say.

In terms of practical politics, I think that if we're going to have the kind of effective deficit reduction program I mentioned before and if you take the position that we shouldn't increase taxes on middle income people, and you aim at some reasonable balance between tax cuts and revenues, I think most of this is going to have to come from increasing the rates on the top two brackets.

ZAKARIA: And that's what you wrote in that New York Times article.

RUBIN: I wrote in that New York Times op-ed saying fundamentally that I you really look at the numbers, I think there are serious substantive issues of the kind I've just raised and I describe where I would come out on that.

And, then, I said when you look at the numbers, you will inevitably have to raise something more than a majority of the revenues from increasing tax rates and the rest you can do by reducing deductions and the like.

ZAKARAIA: Would it be fair -- we've got to take a break, but would it be fair the substance of what you're seeing seem to suggest that you would like a value-added tax, simple, efficient, something easy to collect?

O'NEILL: With one more word, yes, I want a value-added tax and I want to use it to replace corporate income taxes, individual income taxes and payroll taxes.

And I want to do this -- I would like for the president to declare the purpose of the tax system is to raise the revenue we need. It's OK with me -- I'm probably more liberal on some of these things than you are, Bob, it's perfectly OK for me for us -- for we the American people, we want to give people certain benefits depending on their status and their condition and things like that. That's OK with me.

But I want to write them a check. I don't want to do it through the gauze of a tax system that doesn't collect the revenue we need and is inherently unfair.

ZAKARIA: We will have to come right back and talk about that. We're going to come and talk about Europe's experience in austerity tells us for American growth when we come back.

(COMMERCIAL BREAK)

ZAKARIA: And we are back with Bob Rubin and Paul O'Neill, two former secretaries of the Treasury from both sides of the aisle.

Bob, so I say, in my opening commentary, Paul O'Neill say if you want -- if the government wants to provide subsidies for people, write them a check.

Why do it in this hidden way through the tax code, which, first of all is permanent and perpetual, and, secondly, nobody really -- you know you're not being upfront about it?

RUBIN: Two comments, if I may, Fareed. One thing is it's not permanent. You can always change it through legislation.

Number two, even if you're right, theoretically and I'm not sure that you're right, but even if you are, we're not going to com0pletely redo the federal budget at this point.

And if you think that these purposes are important, and I think that charitable contributions and health care exclusions, and so forth are important, then you're going to have to maintain them in the current form.

ZAKARIA: But the corporate ones, you'd get rid of them because that's ...

RUBIN: I would try to -- on the corporate side, I would try to do base broadening. I think though -- I think it's very much like on the individual side, you have to take each one of them and make a decision, on a policy basis, whether or not you agree or disagree with the policy it represents.

In the long run, I think Paul is right in one sense it probably makes more sense to have it all on the spending side.

But, on the other hand, as I said a moment ago, I think there are a lot of important purposes being served and we're simply not going to redo the federal budget in any period of time that is anything remotely related to what we need to do now which is to get on a sound fiscal path both for the long-term and for job creation ...

(CROSSTALK)

O'NEILL: And thank God, the creators of our country didn't believe we had to start with a mess and live with it.

(CROSSTALK)

(LAUGHTER)

ZAKARIA: Quit being the naive optimist.

Let me ask you, Paul. The whole point about this deficit reduction, Simpson-Bowles, all that is about getting the budget deficit down and I understand that.

But what do you learn from the fact that European countries that have been doing just that, from Greece and Spain to, most dramatically, Britain?

Britain has really had a very strong austerity program. They've seen growth just plummet. And Britain has now contracted more in these last four years than in the first four years of the Great Depression.

Is there a danger that even any of these deficit plans are just going too far, right now, given how fragile the economy is?

O'NEILL: You know, my own view is if we plan for a better future and the structure that we set up to collect revenues and are disciplined about how we spend our money and have a broad, national agreement about how we spend our money, it's OK to phase it in.

We don't have to do it in the next three months or six months because I think if people could see that we're going to have a stable system that's reasonable, efficient, economic, the markets will take off.

That thing that investors want, when I was running a company, I wanted stability. I wanted certainty about the future that I was going to face.

And one of the things that's really been holding us back the last couple of years is this endless uncertainty and bickering about every single thing.

So I think if we could get ourselves to a position where say we started with a 5 percent value-added tax to learn how to do it and we promised in two years we were going to eliminate the corporate tax -- think about eliminated the corporate tax system and the individual tax system.

Then, I think people would say, wow we're headed off to a better place and we understand it and we're all going to be better off.

ZAKARIA: How do we get unemployment down? All this is, you know, talking about ways in which we can deal with what is essentially a theoretical problem because, right now, the United States has no trouble borrowing. In fact, we are borrowing at historically low levels.

RUBIN: Yes, but that's very dangerous, Fareed. I think the markets have basically masked our fundamental problem and I think something Paul said is really important.

What's happened in Europe ought to be a lesson to us. We still have time to phase this in, but if you look at Europe, the lesson ought to be that if you don't deal with your problems, the hole gets deeper, it gets harder and harder to regain confidence.

And, then, at some point, you have to take much sharper measures that mean that you -- that can mean that you have to go through a difficult period to deal with what otherwise would be a deeply dangerous long-term situation. The lesson of Europe is act now.

ZAKARIA: But the reality ...

RUBIN: But as Paul said, phase it in and at least would defer the implementation for a limited period with enforcement behind that.

ZAKAIRA: But will any of this improve America's employment picture?

RUBIN: Yes, because and for the very reasons Paul said.

If you had a sound fiscal program that dealt with our long-term imperative, then I believe, just as Paul said, that it would increase business confidence significantly, both because right now there's great uncertainty about future policy and future economic conditions and because of a real concern about whether our government can function.

And, in addition, if you properly structured it, you could have a moderate upfront stimulus. So I think the answer -- in fact, I think it's the most single most important thing you could do.

Up next, What in the World, why Washington's next big foreign policy crisis may come from an unlikely source. I'll explain.

(COMMERCIAL BREAK)

ZAKARIA: Now for our What in the World segment. If history is any guide, second terms are often disrupted by a foreign policy crisis.

It's easy to see how that might happen over the next four years with Iran or Syria, but there's a distinct possibility that the next foreign policy crisis will take place somewhere else, perhaps thousands of miles away in Asian waters over five islands and there barren rocks, all uninhabited except for a few feral goats.

For months now, Chinese and Japanese naval forces have been confronting each other in the East China Sea. Both countries claim a set of tiny islands; the Japanese call them the Senkaku Islands, the Chinese the Diaoyus.

The dispute involves energy. There are immense amounts of natural gas under the East China Seas, but, above all, it involves politics and history.

Asia's greatest geopolitical problem is that its two great powers, the two largest economies and militaries, have an unresolved, bitter relationship.

China and Japan have never had to occupy the world stage as equals. One has always dominated the other. For most of the past 500 years, China was the region's hegemon and Japan accepted its role as a distant satellite of the great Chinese empire.

That changed in the late 19th century as Japan became the first Asian country to modernize its economy and society and catch up to the West. After the Meiji Restoration, Japan's military strength grew, and in 1895 it defeated the Qing dynasty China.

One of the consequences of the war was that Tokyo formally annexed the Senkaku Islands. But their sovereignty has been in dispute for the past 40 years, with China asserting its historic claims and Japan its modern possession.

Over the past two months, both countries have acted in ways that could easily spiral out of control toward conflict. The result has been frequent encounters between Japanese and Chinese ships as they patrol these waters and riots and protests within both countries with the populations in each getting more nationalistic.

And there have been few efforts by either government to defuse the situation and move toward a diplomatic solution. Now, the United States gets involved because it is bound by treaty to go to Japan's aid.

And Washington has confirmed that the Senkaku Islands are covered by this obligation. In other words, if one of these naval encounters goes awry and China and Japan get into a conflict, the United States of America could well find itself involved in an Asian war.

I realize this sounds far-fetched, but given the extremely bad relations between China and Japan, it is possible that honor, pride, miscalculation or a simple accident could get us there.

And remember, we are in the midst of an enormous leadership change in China, one that is far more significant than this month's election in the United States.

We now know the identity of China's new president, Xi Jinping. He faces some major challenges. China's growth is slowing and it needs a new kind of economic development.

Its political system needs to be reformed, at the very least tackling corruption, but probably more radical changes are needed.

Finally, Xi Jinping will have to find a way for China's rise to take place without unsettling its neighbors and maintaining a cooperative relationship, at the same time, with the United States. All this makes President Obama's job seem a lot easier by comparison.

For more on this, go to cnn.com/fareed for a link to my Time Magazine column.

Up next, an interview with Bill Gates on the economy, on education, on politics. Right back.

(COMMERCIAL BREAK)

CANDY CROWLEY, CNN ANCHOR: I'm Candy Crowley in Washington with a check of the headlines. Israeli air strikes into Gaza continued for another day, and Prime Minister Benjamin Netanyahu said he is prepared to escalate Israel's military operation against Palestinian militants. The military wing of Hamas says it has sent more than 900 rockets into Israel, but says it will consider a cease-fire if Israel lifts its blockade of Gaza.

Egypt has sent envoys into Gaza to try and broker a truce between Hamas and Israel. President Obama said earlier this morning that Israel and Hamas need to make a serious effort to work toward Middle East peace starting with no more missiles being fired into Israel's territory.

(BEGIN VIDEO CLIP)

BARACK OBAMA, PRESIDENT OF THE UNITED STATES OF AMERICA: There's no country on earth that would tolerate missiles raining down on its citizens from outside its borders, so we are fully supportive of Israel's right to defend itself from missiles landing on people's homes and workplaces and potentially killing civilians.

(END VIDEO CLIP)

CROWLEY: The president is in Thailand ahead of the East Asia Conference in Cambodia.

Divers recover the body of a man missing following an oil rig explosion in the Gulf of Mexico. The explosion occurred about 20 miles off the Louisiana coast. One other crew member remains missing after the Friday explosion that triggered a fire and injured 11 people. The cause of the explosion remains under investigation.

Those are your top stories. Now back to "Fareed Zakaria GPS."

ZAKARIA: Bill Gates was the world's richest man. But then he gave away billions of dollars to eradicate diseases worldwide, to fight hunger, foster economic development, and to improve our educational system here in the United States. So now he's only the second richest man in the world. Earlier this week I sat down with him in Washington, D.C., for an exclusive interview on the election, on the economy, and about why Gates is now worried about college education in America.

Welcome, Bill.

BILL GATES, FORMER CEO, MICROSOFT: Great to see you.

ZAKARIA: Are you happy with the outcome of the election?

GATES: Well, now we have certainty about who's going to be in the leadership. And they've got a very challenging budget situation. I'm quite hopeful that they'll find a way to reach a compromise. While not cutting the key investments in the future, whether it's helping poor countries or funding research in the U.S., funding the education system. You know, now we've got several months here of very important negotiations.

ZAKARIA: When you look at that issue of investment, are we going to have enough money to spend on key investments and science research and technology? We're doing less as a percent of the budget than we used to do a generation ago.

GATES: I'm quite worried about that. The election didn't get very specific about how people are going to cut discretionary spending without cutting into these things that are absolutely critical. And that's where we need to get. We've got a gigantic deficit. The only way you deal with it is either through revenue. You know, I think people agree there's going to be some of that. But if you're looking over ten years, of $8 trillion to $10 trillion, you know, can that be more than 20, 25 percent. So then you've got cutting entitlements. You know, how willing are people to cut those on the medical space, and do they have really good ideas. And once you get past those two, then you're down to the discretionary, a lot of which are very basic programs. And we fund the world's medical research through NIH. Our foreign aid budget is treating 5 million people for AIDS. We're going to fund the eradication of polio. And so now we're going to have to get concrete. It was all generalities about, oh, it's easy to cut these things. Well, it's never been easy to cut the budgets. People are going to have to say which parts they think are unnecessary. And areas like education, I just don't see room to cut if we're going to take the young people in our future and do what we need to do.

ZAKARIA: When you look at the world economy, Europe is in a mess and is buying some kind of salvation by taking a lot of pain over the next decade. China is slowing down, India has already slowed down, Brazil is having its own problems, highly valued (ph) currency. Do you feel like we're entering a new phase of perhaps significantly slower growth than has been the case for the last 20 years?

GATES: I think definitely for the next five years we're still dealing with the overhang of the problem we had and this problem that Europe is getting through where, you know, a fixed currency rate with different competitiveness is created a real contradiction unless they have large - large fiscal transfers. I don't, however, think that GDP figures really show us what's going on in the sense that GDP's a measure. You know, when we cure a disease, when we let people have the Internet to learn things in a very flexible way, when we're improving life, it doesn't necessarily show up in GDP figures. Now, over time GDP's gone up and life has improved. But those things don't proceed in lockstep. So the kind of innovation that makes me feel like living conditions for everyone, ten years from now, 20 years from now will be a lot better, that innovation is happening faster now than ever before.

ZAKARIA: When you look at that kind of improvement, do you think that technology companies will be as vibrant and dynamic and, you know, kind of moving the U.S. economy as they were in the '80s and '90s when you were running Microsoft?

GATES: Oh, absolutely. The idea of how do you revolutionize education, we're just at the beginning of that. The progress we're making on a malaria vaccine, that stuff is happening in a fantastic way. The technology companies, you know, speech recognition, visual recognition, that -- those tools that empower us, let us collaborate and create, those are improving at an amazing pace.

ZAKARIA: But, you know, there are people, like economists Robert Borden (ph) and Tyler Cohen (ph) who have written these papers and books that say, look, you're having technological progress, but it's not like it was before. You had kind of seismic changes that were taking place before, and now what you're having are marginal, and they're not going to have as much impact on GDP, they are not going to have as much impact on people's lives and their income.

GATES: I believe they are exactly wrong. That is that the opposite is true in a very, very big way. The digital revolution is just at the beginning. How much has it affected education? Not much for the individual learner, a little bit. How much has it allowed scientists to understand immunology and understand how to make vaccines in this magical way. How much has it let us come up with new materials, new catalysts which we need for these energy breakthroughs? All of that stuff is really happening right now. And although each of these individual things are very high risk, so I can't say, or it's just, you know, this guy in this place, but because there are four times as many of those energy innovators, there are 20 times more education innovators, there are, you know, more IQ on very important vaccines and getting them to be cheap, I see that we're going to surprise ourselves, just like, you know, the great work that was done in the '80s, is what led to diffusion of technology in the '90s. I see now, great work being done in all these innovation sectors. So, you know, there could be no greater contrast than between what I believe and what those people were talking about. And I just don't see how they can keep a straight face. I mean when you revolutionize education, you're taking the very mechanism of how we - how people be smarter and do new things and you're priming the pump for so many incredible things. And, you know, that over the next decade at all levels in all countries, that's going to change quite dramatically.

ZAKARIA: All right. When we come back, we're going to ask Bill Gates exactly how he would like to revolutionize education. This is what he's been spending a great deal of his time on, when we come back.

(COMMERCIAL BREAK)

ZAKARIA: And we're back with Bill Gates talking about education and perhaps some other things as well.

Bill, other than eradicating world disease and hunger, your biggest focus, and particularly in the United States has been on education. People see this as something that is absolutely crucial, we can't compete in the new, you know, knowledge economy and this new globalized world, and yet most people are very frustrated and pessimistic. They feel as though somehow year after year you have talked about reform, but nothing really seems to move the needle. What do you say to them?

GATES: I'll be the first to admit that the overall results and U.S. K through 12 education have not improved dramatically yet, and so, but I do think there are things being done about helping teachers improve, better curriculum and the use of technology that will take that space at the current investment levels and allow us to do a far better job. That's an optimistic statement, but we're seeing in pockets, as we apply these new approaches, we're seeing a very big impact.

ZAKARIA: You've now started focusing your attention on something that people tend to think of as the kind of crown jewel of the American educational system. Which is, you know, everyone agrees we do K through 12 badly, or just (ph) badly for the bottom half of the socio-economic spectrum, but college education, we're supposed to be the world leaders at. But you say not so fast.

GATES: Well, certainly in terms of the top 100 institutions in the world, the U.S. dominates that list. In the rankings, you get anywhere from half to 80 percent of the top 100 institutions here. And, you know, they have been so small because they have philanthropy. That's working great. They turn out great research. But that's not the engine of equality. It's more the two-year community colleges. It's the four-year colleges that are largely state associated are where the majority of kids go. And there if we look at completion rates, do the kids get the degree that they want to get and if we look at how much they learn in those institutions and if we look at the cost trends where because state support is going down, the sticker price is going way up on those things, the trends are very scary. So I think this is a muscle we need to renew, look at the loan programs and the grant programs and what kind of incentives can there be for really having excellence. Not just that you admit good students, but actually they're smarter, more able to do jobs when you're done, and that they get all the way and complete their degree.

ZAKARIA: Do you think American universities focus enough on that question of actually teaching the student as opposed to producing research and things like that?

GATES: The bulk of the universities are about teaching kids. The science departments of our lead institutions have this dual role, but the education piece, because we don't measure who's doing it well as much as we should, you know, the kind of prestige ranking, U.S. news report or whatever you look at, is based on, what was their SAT score coming in, even perversely, they look at how much you spend as a positive thing as opposed to saying, oh, you took a kid with a low SAT score, spent very little money, and now he's fantastic at doing these jobs that are open in America.

ZAKARIA: But there's no output measure. That's the problem. Because as you say you're taking all of - you are measuring everything when the kid comes - goes in, but you measure nothing when they come out of college.

GATES: Right. So our foundation is challenging the experts in this field to balance these input measures that are leading to, you know, sort of just competition for the kids that would go to some school to kind of broadening, adding scale, being willing to admit kids with lower SATs for ...

ZAKARIA: Should all Americans go to four-year colleges or should we do something that is more familiar in Europe, which is streamed in a sense and have some really diverted, the two-year colleges, perhaps, one-year diplomas and skills.

GATES: Well, certainly not everybody is going to go to four years. We don't have the capacity for that, you know, it's probably not a fit. We have lots of jobs that don't require a four-year degree. The number that require just high school or that a high school dropout can do, those are shrinking a lot. And we do see a shortage in the four-year degree area. So we need to shift people over. But not everyone. We need great two-year programs. And a lot of those are actually the best because they're so connected locally with the employer. You know, I need welders, I need, you know, pilots, I need nurses, you know. It's wonderful to see when they're so in touch with the employer that it's not some abstract thing about the degree. It's really OK. You know, I hired your kids and they were good at this, but they weren't good at this. Change your courses, and I'll help you get the equipment. So, the two-year sector is very, very important.

ZAKARIA: How transformative or disruptive do you think these -- what are called MOOCs, which many people, many viewers would have seen, which are these MIT courses or Stanford courses that you can just watch the whole course?

GATES: Well, it turns out once you graduate from college, the number of people who pine for (inaudible) long lectures, I'm in that market, but it's very small. So then they made them free and still it was a very small set of people who benefited from those courses. Now it's been added in the last couple of years, which is causing this change in energy is two things. They don't just have you sit and watch a lecture for 30 minutes or 60 minutes. They do a few minutes and then they engage you. So like the Udacity (ph) Physics Course,

ZAKARIA: Right.

GATES: PH-100 is that great example where he makes physics fun and you're always thinking, oh, do I understand that or not? Let me go back over this. And so that interactivity piece is new and it's clearly phenomenal. The other thing is that if you have a lot of kids taking the same course, you can use collaborative tools like bulletin boards for their reviewing each other's work, answering each other's questions. And the leverage of the paid staff is extremely high, because of instead of working one on one, they just review this peer- to-peer engagement, making sure it's not going off course, that it's not, you know, incorrect, so the students are getting high quality. And, so, it's very promising. But we have to admit the last two times people thought technology would change the space, it didn't happen. And so far the courses have mostly been taken by, you know, a very fairly elite set of people. So I'm a huge believer in it. The foundation is funding a lot of activity.

ZAKARIA: And it does feel like the answer. I mean given the picture you're describing is one where education is really important. There is going to be a huge pressure on costs and public funding, and all of that is drying up and here you have this innovation, this innovative technology that can allow you to achieve scale and get these courses out. That's going to be inevitably the way - the place we go.

GATES: I agree. But, again, the status quo is very powerful in education, and so going to a university and saying, hey, these online courses are so good, we don't need you to do lectures anymore, so all of your tenured - non-tenured staff who do lectures, you're out of that business because that will just keep improving online. You're more for these counseling sessions and the lab sessions. There is very few universities that are at such a tough place that they're willing to kind of go, wow, we're, you know, going to - going to do it over. And the ones at the top are not going to change. In fact, you know, they probably don't need to. We need, you know, some sort of state schools that say, OK, there's a crisis out there, and so we're going to adopt these new techniques. And we're just barely seeing that.

ZAKARIA: Bill Gates, pleasure as always.

GATES: Thank you.

ZAKARIA: And we will be back.

(COMMERCIAL BREAK)

ZAKARIA: The eyes of the world shifted briefly this week from the American election to the leadership transition in China. Vision's new leaders were, of course, not subjected to a national ballot. And that brings up my question of the week. Approximately what percentage of the world's nations are electoral democracies? Is it, a, 40 percent, b, 50 percent, c, 60 percent, or d, 70 percent. Stay tuned and we'll tell you the correct answer. Go to CNN.com/fareed for more of the "GPS Challenge" and lots of insight and analysis. You can also follow us on Twitter and Facebook. Remember, if you miss a show, go to iTunes.com/fareed. You'll find free audio podcasts or you can buy the video version. This week's book of the week is Nicholas Eberstadt's "A Nation of Takers." While the Romney and Ryan ticket lost, one of the main arguments of their campaign does have some merit, and Eberstadt's book is the best data-filled analysis about the rise of the entitlement state in America. All western societies will have to confront this problem as the baby boomers retire and these costs skyrocket. Now, for the last look.

Last Sunday was probably the world's biggest ever shopping day. Don't worry, Americans. You didn't sleep through some new pre- Thanksgiving sale. This event was in China. As many of the biggest things seem to be these days. Millions of people sent gifts to their loved ones, clogging up the postal service. The event, a made-up holiday. China's bizarro version of Valentine's Day, they call it "Single's Day." It falls on November, 11th every year. 11/11, get it? One, one, one, one, singles. In a country where within a decade there will be 30 million more men of marrying age than women, those single men had better be sending really nice gifts to the objects of their affection.

The correct answer to our "GPS Challenge" question was C, according to a new report from Freedom House, 60 percent of the world's countries are electoral democracies. That's up from 46 percent in 1990, but down from a high of 64 percent in 2006.

Thanks to all of you for being part of my program this week. I will see you next week. Stay tuned for "Reliable Sources."